Economics Program Working Paper Series Global Growth Projections for The Conference Board Global Economic Outlook 2018 Abdul Azeez Erumban and Klaas de Vries November 2017 EPWP #17 – 02 Economics Program 845 Third Avenue New York, NY 10022-6679 Tel. 212-759-0900 www.conference-board.org/economics
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Economics Program Working Paper Series
Global Growth Projections for The Conference Board Global Economic
Outlook 2018
Abdul Azeez Erumban and Klaas de Vries
November 2017
EPWP #17 – 02
Economics Program 845 Third Avenue
New York, NY 10022-6679 Tel. 212-759-0900
www.conference-board.org/economics
2
Global Growth Projections for The Conference
Board Global Economic Outlook 2018
Abdul Azeez Erumban* and Klaas de Vries
November 2017
Abstract
This paper presents the methodology for The Conference Board Global Economic Outlook 2017
which includes growth projections for 11 major regions and individual estimates for 33 mature
and 36 emerging market economies for 2018-2022, and 2023-2027. The projections are based on
a supply-side growth accounting model that estimates the contributions of the use of factor
inputs—labor and capital—, and total factor productivity growth to the growth of real Gross
Domestic Product (GDP). While labor input growth rates are estimated using data on demographic
changes and work force participation rates, capital input and total factor productivity growth are
econometrically estimated using a wide range of related variables during past periods. The
obtained trend growth rates for the period 2018-2022 are adjusted for possible deviations between
Data Sources ............................................................................................................................................... 20
List of tables and figures
Table 1: Country list ..................................................................................................................................... 5
Table 2: Definition of variables, expected signs, and data sources............................................................... 9
Table 3: Period averages used in estimating the equations ......................................................................... 10
Table 4: Estimation results of simultaneous equations ............................................................................... 13
Table 5: Output gap assumptions for the medium term projections ........................................................... 17
4
1. Introduction
Since 2008, The Conference Board publishes an annual global economic outlook, projecting GDP
growth for 69 countries using growth accounting techniques.1 Over the years The Conference
Board extended and improved the projection methods by refining the underlying model and
expanding the pool of historical data. This paper describes the methodology and sources
underlying the projections of growth of Gross Domestic Product (GDP) in the 2018 edition of The
Conference Board Global Economic Outlook (GEO).2 Historical growth accounting data are
sourced from The Conference Board Total Economy DatabaseTM, more details on this dataset can
be found on our website. More details on the results of the GEO model can be found on our GEO
website.
The projections in this paper cover the period 2018-2027, with separate projections for the
medium term (2018-2022) and the long term (2023-2027). The outlook covers 69 economies
across 11 regions, including 33 mature economies and 36 emerging and developing economies
(see table 1 for a list of countries included). Trend growth is estimated on the basis of an
extrapolated growth accounting model which projects the various growth components of the
production function. To arrive at GDP projections, the model estimates the factor inputs, which
are labor quantity, labor composition (the effect of heterogeneity among workers in terms of
educational attainment), capital services and total factor productivity (TFP), a measure of overall
production efficiency. Broadly speaking, the measures for labor quantity (Section 3.1) are based
on projections of employment (2018-2021) and labor force participation rates (2022-2027) from
the International Labor Organization (ILO, 2015), combined with working-age population
projections from the United Nations (UN, 2017). The measures on labor composition (Section 3.2)
are based on projections of returns to education by skill type. Capital services and total factor
productivity (Section 4) are estimated using regression models which are largely based on relevant
past-period variables.
Projections of all input factors are combined to provide projections of trend GDP growth.
These growth rates can be interpreted as a representation of the trend growth of each economy. In
the long run, countries grow according to their trend.3 In the short run, however, countries deviate
1 Earlier editions of the GEO included 55 countries, expanded to 65 countries in 2015 and to 69 countries in 2017. 2 The projection methodology used in the 2018 GEO is largely unchanged from last year’s model, see Erumban and de Vries
(2016), which builds upon Chen, V., B. Cheng, G. Levanon, A. Ozyildirim and B. van Ark (2012). 3 Our trend growth rates may be seen as a proxy to the growth rate of potential output, but as our estimates do not explicitly
account for a non-inflationary constraint on our growth measure, and our estimates are not accompanied by a measure of
potential output, we prefer to use the term “trend growth”, as our estimates are essentially derived from past growth trends.
where ∆lnX denotes the log growth rate of variable 𝑋 over period 𝑡 and 𝑡 − 1, 𝑙𝑛𝑋 indicates the
log level of the variable 𝑋. The definition of the variables and the data sources are listed in table
2 on the next page.
9
Table 2: Definition of variables, expected signs, and data sources Independent
Variables
TFP Savings Capital
Services
Description Data source(s)
𝑇𝐹𝑃 + Total factor productivity growth Total Economy Database and
projections from the TFP equation
𝐿𝑃𝑈𝑆 - Labor productivity (measured as
output per worker) relative to the
United States
Total Economy Database
𝐶𝑂𝑅𝑅𝑈𝑃𝑇 - Corruption
World Bank, Worldwide
Governance Indicators;
Transparency International
𝑅&𝐷 + Real Research & Development
spending OECD, UNESCO, Eurostat
𝐻𝐷𝐼 + Geometric average of average years
of schooling and life expectancy at
birth
Schooling: Wittgenstein (2015),
Barro-Lee (2014); Life expectancy:
UN Population Division (2017)
𝐼𝐶𝑇_𝐾𝐷 - ICT capital deepening
Total Economy Database, data for
the last projection period are
imputed using the changes in
projected capital services values.
𝑅_𝑋𝑅 + + Real exchange rates, see equation
(11) IMF, World Economic Outlook
𝐷𝐸𝑃 - Population aged 0-15 and 65+ as a
share of the total population UN Population Division (2017)
𝑆𝐸𝑅𝑉𝐼𝐶𝐸𝑆 - Share of services industries in
nominal GDP
UN National Account Statistics;
World Bank World Development
Indicators
𝑃𝐶_𝐺𝐷𝑃 + Per capita GDP Total Economy Database
𝐺𝐷𝑃 + + Real GDP Total Economy Database
𝑇𝐹𝑃 +/- Total factor productivity growth Total Economy Database and
projections from the TFP equation
𝑆𝐴𝑉𝐼𝑁𝐺𝑆 +
Savings rate, calculated as 1 minus
final consumption expenditure as a
share of nominal GDP
UN National Account Statistics;
World Bank World Development
Indicators and Projection from
Saving equation
𝐷𝑃𝑁_𝑅𝐴𝑇𝐸 + Depreciation rate Total Economy Database
𝑆𝐷_𝐼𝑁𝐹𝐿 + Standard deviation of inflation rate IMF, World Economic Outlook
𝑊𝐴𝐺𝐸 + Annual wage rate per worker Total Economy Database
𝐸𝑁𝐸𝑅𝐺𝑌 + Total primary energy consumption International Energy Statistics
𝐾𝐷 - Capital deepening Total Economy Database
𝐼𝑁𝑇_𝑅𝐴𝑇𝐸 - Nominal interest rate IMF, International Financial
Statistics; OECD statistics
𝐸𝐶𝑂_𝐺𝐿𝑂𝐵 +
Index of economic globalization
which measures trends flows of
trade, FDI, income payments and
restrictions on international flows.
KOF Swiss Economic Institute
Globalization Index data
𝑅_𝐷𝑈𝑀𝑀𝑌 +/- +/- +/- Region dummies 1 if a country belongs to a given
region, and 0 otherwise
Note: A + (-) sign indicates that the expected impact of the variable is positive (negative); The November 2017 update of the
Total Economy Database (adjusted version) is used.
The three equations constitute a simultaneous equation system which is estimated using three-
stage least squares, as some of the explanatory variables are dependent variables of other equations
in the system. Generalized least squares are used to account for the correlation among the error
10
terms across equations. The regressions are implemented on our sample of 33 mature economies
and 36 major emerging economies over the period 1970 to 2017 (see table 1 for a list of countries).
The annual variables from the data sources are averaged for each defined period, as in table 3
below.
Table 3: Period averages used in estimating the equations
Historical periods
1 1970-1975
2 1976-1981
3 1982-1987
4 1988-1993
5 1994-1999
6 2000-2005
7 2006-2011
8 2012-2017
Projection periods
9 2018-2022
10 2023-2027
4.2 Estimation results of the simultaneous equations
Table 4 reports the results of the simultaneous equation system using the three-stage least squares
estimation. The results are largely consistent with theoretical expectations. Specifically, the
relative level of the labor productivity variable in the TFP growth equation and the lagged capital
deepening variable in the capital services growth equation are specified to test the convergence
hypothesis.5 Both variables are significantly negative, lending support to the convergence
hypothesis that the country with higher labor productivity (or capital deepening) levels will show
slower growth of TFP (capital services) in the next period.
The coefficient of the geometric average of life expectancy and average years of schooling
is significantly positive in the TFP growth equation (equation 8). This indicator represents a
country’s human development, which reflects both its innovative and absorptive capacity. We
combined these two indicators into one single variable, which is similar to the United Nation’s
Human Development Indicator, except that it does not include per capita GDP in order to avoid
serial correlation in the regression equation. Longer life expectancy is closely related to better
health conditions, a foundation for faster productivity growth. A better educated labor force is
equipped with the necessary knowledge and skills to enhance the productivity in the production
5 Ideally, we want to use the TFP and capital services level of the initial year to test convergence. Since the Total Economy
Database does not provide level data on TFP, labor productivity measures as output per worker is used instead in the
specification.
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process. While emerging and developing economies benefit a lot from adopting technologies
developed elsewhere, mature economies gain faster productivity growth by innovating. In both
cases, R&D spending is crucial in fostering productivity growth; our results yield a significant
positive effect of real R&D growth rates on TFP growth. Corrupt economies are prone to
misallocation of resources, as investment decisions can be heavily influenced by wasteful rent
seeking and a distorted bureaucracy.6 Lack of transparency and accountability can not only lead to
irresponsible investments resulting in misallocation of capital, but can also strangle innovation,
and, therefore, corruption is expected to impact productivity negatively. Our results, while it yields
a negative coefficient for corruption, do not suggest a significant negative impact of corruption on
productivity growth.7
In the savings equation (equation 9), the dependency ratio has a negative effect on the
savings rate as the non-working-age population typically does not earn an income and are major
consumers of education and health care. The negative relationship between the share of the
services sector in an economy and the savings rate probably results from the larger presence of
government funded social services, education and health care, causing people to have less
precautionary savings. The savings rate is positively influenced by the overall growth of real GDP
and the level of per capita income.
The real exchange rate 𝑅_𝑋𝑅 is measured as:
𝑅_𝑋𝑅 = (𝑃𝑓
𝑃𝑒) 𝑒 (11)
where 𝑃𝑓 and 𝑃𝑑 are the price levels in the foreign and domestic country respectively, 𝑒 is the
exchange rate expressed as domestic currency per unit of foreign currency. Domestic and foreign
prices are approximated using consumer price deflators. An increase in the real exchange rate
reflects a depreciation of the currency, and a decline an appreciation, both corrected for inflation.
The real exchange rate explains to what extent more or less goods and services can be purchased
abroad (after conversion into a foreign currency) than in the domestic market for a given amount.
An appreciation of the real exchange rate shifts production from traded to non-traded
goods, as domestic goods become dearer for foreign consumers, and imports becomes cheaper for
6 Mauro (1995), among others, show a negative impact of corruption on investment/GDP ratio. 7 Note that we transform the corruption variable obtained from the source data. In the source data, the corruption indicator ranges
from -2.5 to +2.5, where -2.5 indicates weak governance (or high corruption) and +2.5 indicates strong government (or low
corruption). This suggests that higher the value of corruption indicator, higher the productivity growth we expect to see. To make
regression results read easy, we transform the variable to positive numbers, by taking 2.6 minus the source data.
12
domestic consumers. This will hamper productivity and competitiveness of the domestic tradable
sector, thus reducing the overall productivity growth of the economy (hence a negative relationship
between exchange rate appreciation and productivity)—this is the famous Dutch disease
hypothesis. Furthermore, an appreciated real exchange rate affects domestic savings, as it tends to
reduce saving and thus depress growth by hampering capital accumulation.
We find that the effective exchange rate has a positive and significant impact on savings
rates, and an insignificant, though negative, impact on TFP growth. This is consistent with the
theoretical prediction that real appreciation (depreciation) of a currency would lead to a decline
(increase) in savings and thereby lower capital services growth. Since the appreciated currency
makes imports cheaper, which is driving consumer demand, domestic saving propensity will
decline leading to a decline in investment and capital services.
The savings rate has a positive impact in the capital services growth equation (equation 8).
The standard deviation of inflation is used as a proxy for the stability of the macroeconomic
environment. Even though it has the expected negative sign, so that unstable macroeconomic
conditions are expected to deter investment and consequently growth in capital services, it is not
significant. Two other major indicators that affect capital service growth rates are the wage rate
and the growth rate of energy use. As labor costs rise, demand for capital is likely to increase due
to possible substitution effects. Energy use is a proxy for capacity utilization. If a large part of the
current capital stock is underutilized, firms are unlikely to increase investment, which explains the
positive relationship. Nominal interest rates—a measure of the price of investment—have a
negative, but insignificant effect on the growth of capital services. Economic globalization has a
positive and significant effect on capital services, as it facilitates cross-border investment and trade
flows.
13
Table 4: Estimation results of simultaneous equations
Independent
Variables TFP growth Savings Capital services
∆ 𝑙𝑛 𝑇𝐹𝑃𝑡−1 0.137 ***
(3.37)
𝑙𝑛𝐿𝑃𝑡−1𝑈𝑆
-1.062 ***
(-5.40)
𝐶𝑂𝑅𝑅𝑈𝑃𝑇𝑡 -4.706
(-1.39)
𝑅&𝐷𝑡 0.0817 ***
(4.77)
𝐻𝐷𝐼 1.379 ***
(2.52)
𝑙𝑛𝐼𝐶𝑇_𝐾𝐷𝑡−1 -0.00123
(-0.02)
𝑅_𝑋𝑅𝑡 -0.0668 0.672 ***
(-1.37) (3.82)
𝐷𝐸𝑃𝑡 -0.155 ***
(-4.69)
𝑆𝐸𝑅𝑉𝐼𝐶𝐸𝑆𝑡 -0.443 ***
(-8.86)
𝑙𝑛𝑃𝐶_𝐺𝐷𝑃𝑡−1 7.045 ***
(9.28)
∆𝑙𝑛𝐺𝐷𝑃𝑡−1 1.182 ***
(9.29)
𝑆𝐴𝑉𝐼𝑁𝐺𝑆𝑡 0.0905 ***
(4.66)
𝐷𝑃𝑁_𝑅𝐴𝑇𝐸𝑡 -0.121
(-1.47)
𝑆𝐷_𝐼𝑁𝐹𝐿𝑡 -0.115
(-1.06)
𝑊𝐴𝐺𝐸𝑡 0.347 ***
-10.41
𝐸𝑁𝐸𝑅𝐺𝑌𝑡 0.106 ***
(4.07)
𝑙𝑛𝐾𝐷𝑡−1 -0.974 ***
(-6.76)
𝐼𝑁𝑇_𝑅𝐴𝑇𝐸 -0.000485
(-0.13)
𝐸𝐶𝑂_𝐺𝐿𝑂𝐵 0.552
(1.63)
Constant -4.32 ** -17.2 * 3.090 *
(-2.14) (-1.81) (1.83)
R-squared 0.259 0.578 0.771
Regional Dummies YES YES YES Notes: The system of equations is estimated by the 3SLS (three-stage least squares) method; Number of observations: 483.
* significant at 10%; ** significant at 5%; *** significant at 1%.
14
5. Trend growth projections
5.1 The exogenous variables underlying the projections
As explained above, equations (6) – (8) are estimated using period averages in the actual data from
periods 1 to 8 (see table 3). The estimated coefficients are then used to derive projections for TFP
and capital services growth. Projecting TFP and capital services growth for both the medium-term
(2018-2022, period 9) and the long-term (2023-2027, period 10), necessitates all the exogenous
variables in the system, which can be divided into three categories.
The first category includes variables whose values of medium- and long-term are available:
old and youth dependency ratios, as well as growth of the employed population, sourced from the
UN and ILO datasets.
The second category includes lagged variables whose long-term values need to be
calculated based on medium-term projections: lagged TFP growth, lagged labor productivity and
lagged capital deepening. The period 10 value of the first two lagged variables are obtained using
the projected value of period 9. The lagged labor productivity level in period 10 is calculated using
labor productivity growth, calculated as the difference between GDP growth and employment
growth. GDP growth in period 9 is obtained using projected capital services and TFP growth as
explained above. The lagged capital deepening in period 9 is calculated based on the projected
growth of capital services in period 9 and the projected growth of the employed population.
The third category includes contemporary variables whose period 9 and 10 values are
subject to judgment: inflation, standard deviation of inflation, services share in total nominal GDP,
life expectancy, education attainment, corruption, R&D spending, wage rate per worker, energy
growth, globalization, interest rates and exchange rates. The share of the services sector reflects
the structure of the economy; inflation rate and the standard deviation of inflation characterize the
macro condition. For period 9, we use inflation and exchange rate projections from the IMF World
Economic Outlook, which are kept constant for period 10. The real exchange rate appreciation was
increased by 10 percent for China, implying a higher inflation rate. Life expectancy and
educational attainment are considered policy oriented variables, whose values are subject to
change depending on a country’s economic condition and development strategy. Projections on
educational attainment are obtained from Wittgenstein Datacenter (2015) and Barro-Lee (2014).
Projections of life expectancy at birth are obtained from the United Nations. Corruption, an
institutional variable, is assumed to remain constant, so that it mainly captures cross section effects
while projecting forward. Growth rates wage rates, energy use, globalization and interest rates are
15
also assumed constant for the projection periods. Nominal R&D growth is kept constant, while the
real R&D growth is taken as the difference between nominal and linearly interpolated investment
price deflators. Considering the Brexit effect, R&D growth in the United Kingdom is taken as half
the projected growth rate and the economic globalization index for the UK is kept at the level
where it was before it joined the EU.
The lagged values of the relative level of labor productivity—a measure of convergence
or catch up—are excluded for a selected number of advanced economies, which seem to have
reached a critical level of per capita income, from which they have not moved significantly over
the last 20 years.8 Therefore, it is unlikely that these countries will further improve their
productivity due to their catch-up potential. Indeed, they may have other country or region specific
factors that allow them to achieve higher productivity growth, which are captured by dummy
variables, but it is unlikely that they will see a productivity level impact. Given the fact that our
model is a global model, where we have countries with extremely low level of productivity (e.g.
less developed economies in Asia and Africa), and hence substantial catch-up potential, it is
important to include the catch-up variable in the model. For the same reason, it is also likely that
the catch-up coefficient will be highly influenced by the presence of these low income countries
as it is a mean regression.
5.2 Adjusting trend growth rates for remaining output gaps
The projected GDP growth rates based on the growth accounting framework are to be interpreted
as the trend growth rates of an economy. Trends are important for projecting future growth because
they depict how an economy develops on the basis of its growth potential which is determined by
the available labor force, capacity in capital and technology base. In the long run, countries grow
according to their trend. In the short run, however, countries may deviate from their long-run path
due to temporary factors primarily, in particular their business cycle dynamics. Occasionally,
shocks can also occur which have a deep impact on the structure of the economy beyond the
business cycle permanently changing the course of its long-run trend.
As a prime example, the 2008-09 recession created a large gap in most mature economies
between the actual output level and what could have been produced if the economy had stayed on
8 The countries for which the lagged values of the relative level of labor productivity are excluded are: Australia, Austria,